Study On The Different Markets In Finance Finance Essay - Free Essay Example

Sample details Pages: 6 Words: 1876 Downloads: 5 Date added: 2017/06/26 Category Finance Essay Type Analytical essay Did you like this example? Financial market is a mechanism that allows people to buy and sell financial securities, commodities and other fungible items to value at low transactions costs. It divided into money market, capital market, derivation market and offshore market. Money market involved in short-term borrowing and lending of fund with original maturity of one year or shorter than one year (maturity lt;1 year). Economic agents with short term excess funds can lend to those who need money market instruments to raise funds. Commonly, money market trade involves treasury bills, Federal funds, commercial paper, repurchase agreements, banks acceptances and certificates of deposit. Sometimes, this money market instruments also can be called as paper. It provides liquidity funding for the global financial system. Money market instruments trade for only short periods of time, so the fluctuations in secondary market prices are usually quite small and less risky. Capital market is a market that issue securities such as debt and equity, where business firm and governments can raise their long-term funds through selling the securities to start up operation or long-term investments. Times of maturity for capital market actually is more than one year (maturity gt;1 year). Besides that, capital market can be classified into primary market and secondary market. In primary market, business firms and governments issues new stock or bond and sell them initially to the public. The secondary market is a collection of financial market in which previously issued securities are bought and sold among the traders and investors. Trading in the capital market involves municipal bonds, treasury notes and bonds, corporate bonds, corporate stocks and mortgage-backed securities. Fluctuation price for capital market securities in secondary market are more risky due to long period of time compare to money market securities. Money market and capital market also known as debt market. Charac teristics and structure of interest rate in money market are fixed income investments and less risky. The reason is money market investments are that many of them are backed by the Malaysian government, so return is practically guaranteed. This makes money market investments become an attractive choice for investors with short-term goals. Capital market can be divided into several sub-markets such as bond market and stock market. Sometimes, it can be also know as debt market and equity market. Two of this market can generate capital by selling bonds and selling stocks. Now, I will explain structure of interest rates, issuers of debt and equity and the characteristics of these securities each other in the capital market. Bond market majority of trading volume occurs in a decentralized, over-night-market. This trade more frequently occurs between bond dealers and large institutions like mutual funds, pension funds and insurance companies. Dealers bid for bonds that investors seek to s ell and offer bonds from their own inventory when investors want to buy. This is especially true for the very active treasury securities market. However, a small number of corporate bonds are listed on centralized exchanges. Characteristics of bonds are debt obligation securities that public corporations, companies, federal government and local government issue to fund various projects or operations. It also knows as fixed-income securities. This is because investors or bondholder know both of how much they will receive in interest payments and when their principle will be returned. At the time of purchase, the bonds interest payments and par value expected at maturity are fixed and known. Over the time, economy wide interest rates change but the bonds coupon rate remains fixed. . A rise in prevailing interest rates also called increasing the discount rate reduces all bonds value. When interest rates rise, newly issued bonds offer to pay higher interest rates than the rates offered on existing bonds. So to sell an existing bond with its lower coupon rate, its market price must fall so that the buyer can expect a profit similar to that offered by newly issued bonds. The fact is that when the prevailing interest rates change, the prices of existing bonds will change. It is knows as interest rates risk. Interest rate risk means that during periods when interest rates change substantially or quickly, bondholders experience distinct gains and losses in their bond inventories. But interest rate risk does not affect all bonds exactly the same. Short-term bonds experience little or no fluctuation in their prices and thus expose the bondholder to little interest rate risk. Different interest rates apply to bonds with different terms to maturity. This concept is known as the term structure of interest rates. Three main bond issuers for bonds are treasury bonds, corporate bonds and municipal bonds. Treasury bonds are the safest fixed income investments in the world. B esides that, investors or manager can raise their capital by issuing corporate bonds to finance investments in inventory, plant and equipment, research and development and general business expansion. Last by not least, municipal bonds are local and state governments borrow money to build, repair, or improve streets, highways and so on. A stock market is a public for the trading of company stock (shares) and derivatives at an agreed price; these are securities listed on a stock exchange as well as those only traded privately. The well-known stock exchanges include New York Stock Exchange (NYSE), American Stock Exchange (AMEX), Nasdaq Stock Market and foreign markets. New York Stock Exchange (NYSE) the Big Board is the most famous and one of the oldest stock markets in the world. While American Stock Exchange (AMEX) is the second largest stock market. Major issuers in stock markets are common stock and preferred stock. Common stock represents ownership shares in a corporation. It offe rs buyers the potential for current income from dividends and capital appreciation from any stock price increases. Preferred stock also called preferred shares is a special equity security that has properties of both an equity and a debt instrument and is generally considered a hybrid instrument. Preferred stock usually carries no voting rights. Stockholder has the right to exchange the bond or preferred stock for a fixed number of shares of common stock. Fluctuation price for stock are more risky and the interest rate earned are more higher compare to money market due to the long time period take place. Federal Reserve System also known as the Federal Reserve is the central banking system. Central bank act as an institution designed to oversee the banking system and regulate the quantity of money in the economy. Role of Federal Reserve System in which that bank institution must hold certain of fraction of deposits as reserves in their bank plus its deposits at central bank (BNM) . The primary reason of creating the Federal Reserve System is to address the problem of banking panics. The following role of Federal Reserve System are serve as the central bank, supervise and regulate banking institutions, protect the credit rights of consumers, manage the nations money supply through monetary policy to achieve the goals such as maximum employment, stable prices and prevention inflation or deflation. In addition, Federal Reserve System also moderate long-term interest rates, facilitate the exchange of payments among regions, respond to local liquidity needs and finally strengthen the world of the economy. Federal Reserve System, banking system and monetary policy has a close relationship between each. They are all control by central bank in each of country. Central bank in Malaysia also knows as Bank Negara Malaysia (BNM). Monetary policy is the process by which the monetary authority of a country controls the supply of money towards the growth and stability of t he economy. Tools of monetary control includes the required reserve ratio, the discount rate and open market operations where the central bank estimate what amount of money supply will be affected. Money supply can be measure through M1 and M2. M1 is the narrowest of money supply such as currency outside banks plus checkable deposits plus travelers check while M2 represents as a broader of money supply it includes all of the components of M1 plus small denomination time deposits plus savings deposits plus other deposits. Let us discuss the tools of monetary control which has the close relationship between Federal Reserve System, banking system. Open-Market Operation (OMO) is the purchase and sale of government securities in financial markets so as to influence the size of bank deposits. During the inflation, Bank Negara Malaysia (BNM) will sells bonds to the market and individuals or firms who purchase government securities pay by writing cheques drawn against their own banks and ma ke payable to BNM. The amount on the cheque shows how much the bank owes the BNM. The payment of this cheque amount owed to the BNM will reduce the banks deposits and as a result, cash reserves and quantity of leading of the banks are reduced. Banks cannot create credit easily and this leads to a decline of the money supply. When the deflation happens, Bank Negara Malaysia will buy bonds from the market and pay with cheques drawn against the BNM and payable to the households and firms who sold the bonds. At the same time, households and firms will deposit the cheque that they receive to their own banks. Banks present the cheques to BNM for payment and this will increase the deposit of the banks. As a result, expansion of money supply will happen. In Malaysia, Open-Market Operation (OMO) is not effective as the public holds very little government securities which is less than 3% because of the low interest rate. The largest buyers are the insurance companies. Second tool of moneta ry control is required reserve ratio which defines as the regulations on the minimum amount of reserves that banks must hold against deposits. BNM has the power by law to alter the required minimum reserve ratio. An increase in reserve requirements means that banks must hold more reserves and can loan out less of each Riggit Malaysia (RM) that is deposited. As a result, it raises the reserve ratio, lowers the money multiplier and decreases the money supply during the time of inflation. Besides that BNM will decrease in reserve ratio and banks will hold less reserve and they will have excess reserves to be lent out. As a result, it raises the money multiplier and increases the money supply in deflation time. Finally, I will explain the last tool use by the Central Bank in monetary control is discount rate. It is defines as the interest rate on the loans that BNM makes to banks. BNM can alter the money supply by changing the discount rate. A higher discount arte discourages banks from borrowing reserves from BNM. This will reduces the quantity of reserves in the banking system and reduce the money supply in the market during inflation. In the opposite side, a lower discount rate encourages bank borrowing from BNM. This will increases the quantity of reserves and increase the money supply during deflation. Finally, this tool of monetary control does not mean that central bank will use it when inflation and deflation happen. Central Bank or BNM will use it efficiently and necessary to achieve their goals which is to balance the economy in the world. Besides that, Central Bank also try their best to maximum the customers satisfaction and reduces the panic until minimum when inflation or deflation happening. Don’t waste time! Our writers will create an original "Study On The Different Markets In Finance Finance Essay" essay for you Create order